The Economy: Another Blow to Q4 Growth
Perhaps it's a fitting end to a month that saw so much volatility and confusion. Two U.S. economic reports released on Nov. 30—on personal income and construction spending for October—took a hefty chunk out of Action Economics' fourth-quarter gross domestic product estimate, which now sits at 0.5%. We lowered our view from the 1.5% annual rate we adopted on Nov. 29 after the robust 4.9% reading for GDP in the third quarter that already looks poised to be boosted to 5.0%.
The two reports have sharply raised the downside risk to fourth-quarter GDP, and this may feed expectations of a jumbo rate cut from the Federal Reserve in December. Though GDP will average a solid 2.7% rate in the second half of 2007, the market will be fixated on the drop in the growth rate between the third and fourth quarters, as well as the risk of a negative reading for the headline GDP figure in the advance fourth-quarter GDP report at the end of January.
Another Nov. 30 report, the Chicago purchasing managers' index for November, provided some solace, as it posted a comfortable upside surprise. Here is Action Economics' rundown of the Nov. 30 reports:
Personal income and spending both edged up by just 0.2% in October, which fell well short of expectations. The September 0.4% increase in income was not revised, nor was the 0.3% increase in spending, though the levels of income were revised downward considerably through the second and third quarters. Income is now up 6.0% year over year, vs. the 6.8% year-over-year gain in September. The 12-month spending pace is running at 5.4%, vs. 5.6% in September.
Looking at the inflation components of the report, the October personal consumption expenditure price index rose 0.3% after a 0.3% increase previously (revised from 0.2%). The core PCE deflator was up 0.2%, which is the same as in September, and is up 1.9% year over year from an upwardly revised 1.9% in September (1.8% previously). That's just barely inside the Fed's 1.5% to 2% comfort zone indicated by its latest projections.
The October personal income data were weaker than signaled by the October employment and retail sales gains, and suggest further downside risk to both reports in November. We lowered our November payroll forecast on Nov. 28 to a 50,000 gain. But today's weaker spending trajectory has knocked down our November retail sales forecast to 0.5% overall and 0.6% excluding autos, with the ex-auto figure still receiving a sizable boost from soaring gasoline prices that should add 0.3% to 0.4% to the monthly sales gain, leaving only restrained spending for the other sales categories.
Construction spending fell 0.8% in October after revised gains of 0.2% in September (formerly 0.3%) and 0.4% in August (was -0.2%). The mix was much weaker than expected. Spending on residential structures fell 2.0% and is down 15.8% year over year (from -16.8%). Meanwhile, nonresidential construction spending rose just 0.1% and is up 16.1% year over year (vs. 17.4% previously). Private construction spending fell 1.4%, again held down by residential spending, which fell another 2.0%, as well as by a 0.5% decline in nonresidential spending. Public construction spending rose 0.8%.
We now expect residential construction to contract at a 26% rate in the fourth quarter, vs. the 19.7% rate of decline reported for the third, while nonresidential construction growth slows in the fourth quarter to 9%, vs. the 14% rate of the third that is now poised to be revised to the 17% area.
Chicago purchasing managers' index
The Chicago PMI rebounded to 52.9 in November after falling to 49.7 in October, which had marked the weakest reading since February's 47.9. The employment index climbed to 54.4 after falling to 49.5 last month. New orders were steady at 53.9. Production surged to 57.4 from 46.9. Prices paid were 76.2 from 74.7.
Overall, the various factory sentiment indicators surged with GDP in the second quarter and remained surprisingly solid through the third, alongside the robust 4.9% preliminary third-quarter GDP gain reported Nov. 29. The drop in the sentiment measures thus far in the fourth quarter has proven modest relative to the more significant slowing that might be expected given our 0.5% fourth quarter GDP estimate, perhaps because the factory sector is being buffered to some degree by the weaker dollar.